Director's Loan Accounts - A Guide for Small Business Owners
If you are attempting to set up a business and wish to do so as a limited company there are a few different things that you must understand completely before moving ahead. Setting up a limited company means that you are creating a completely separate entity to you as an individual. What this does is provide you with limited liability and a separation from the business, legally. In the event of legal action being taken against the company in the future, you as an individual are only risking the amount you put in to the business, and not your own personal wealth and assets. Any money in a bank account linked to a limited company belongs to that company and not to you personally.
So, how do you gain access to that money as a company director?
A director’s loan is the process in which a company director gains access to money within a company, and is extremely useful as a way to fund many large purchases, such as a deposit for a property you are seeking a mortgage as an individual, or to help with unexpected repairs of your car or certain household appliances. It can seem that you are restricted as a company director, but with a director’s loan you can gain access to the cash that will help you.
Director’s loan accounts is a process where a directors takes money out of the limited company they are a director of, but in a way that is not counted as your salary, a dividend, or a repayment of a business expense. It is a separate financial transaction and allows you to take money out of a company that you are a director of for a different reason. A director’s loan can sometimes provide bridging finance to help cashflow at a time where the company profits do not allow for dividends to be paid out. A director’s loan account can be funded by loans from its directors, with repayments made at a future date when there are enough funds created. Using a director’s loan to boost company growth is a tactic that is often used by directors of limited companies.
You must always keep a record of all money that you have borrowed in this way, and a record of when you repay the borrowed amount back in to the company accounts. The entire process is recorded as a Director’s Loan Account – DLA.
It is important that you maintain a full and accurate record of your director’s loan accounts at all times. The HMRC will want to look at your director’s loan accounts when you submit your annual company returns. It is important to ensure that prior to submission you are fully up-to-date and have submitted accurate records.
In your DLA there should be a record of all cash withdrawals that have been made by you as a director from the company accounts, alongside all repayments you have made back into the company accounts. Aside from that you should also record all personal expenses that have been paid with company money or a credit card linked to the company account. The records should also include all interest that has been charged on the director’s loan.
What are the requirements for disclosure of director’s loan accounts?
When you reach the end of the company’s financial year the company will either be in a position where it owes a director money, or the director will owe the company money. Depending on which this is it should be recorded as an asset or a liability on the balance sheet of the company accounts for that financial year. This must be disclosed as a related party transaction in your accounts.
Now you know a little bit more about what a director’s loan is what are the rules surrounding them?
In terms of Corporation Tax there are implications, but they will depend on the time you pay back the loan to the company. If you pay back the loan in full within 9-months of the year-end of the company you will not be liable to pay corporation tax on it. Anything paid back after that amount of time will be liable for Corporation Tax at 32.5%, as it is counted as an overdue payment. Be aware that HMRC will look closely at your actions relating to a director’s loan, so be careful on your timing of repayment. If you have only recently paid back a director’s loan and wish to take it out again, it may be viewed as suspicious activity, only undertaken in order to avoid corporation tax.
In terms of personal tax an interest-free loan over an amount of £10,000 is classed as a benefit in kind and will be recorded on a P11D and Class 1A National Insurance. This is payable by the company at 13.8%.
Depending on the interest rates charged or received on a director’s loan account the tax expected would change accordingly. You should always seek professional advice and guidance from your accountant, or speak to the HMRC to discover the specific intricacies of this area. It will be unique to you, and you do not want to risk paying the wrong amount of tax.
If a director’s loan account is overdrawn you have nine months from the year-end for your company to repay in full. A director’s loan account is counted as overdrawn whenever a loan is taken out that isn’t a salary or dividend and the amount exceeds what has been put into the company. It is counted as an asset if it remains unpaid, and if the company goes into insolvency, a liquidator will most likely pursue the outstanding balance.
If a company is facing financial problems and there is an outstanding director’s loan, it can be written off by the company. The problem here is that a liquidator might choose to question this process and ask the director in question to repay the loan during the process of paying creditors during an insolvency process. Writing off a director’s loan could end up being complicated for this reason and for tax reasons so it should always be an action that is thoroughly discussed with your accountant before making a decision.
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